(1) Field of the Invention
This invention relates to the financing of real property, primarily residential housing. More specifically, the invention relates to a method or system for separating a real property investment into a consumption-oriented realty investment and an investment-oriented realty investment, and for creating documents, monitoring and reporting to effect this separation. This financing of real property can be realized in conjunction with standard forms of house financing.
(2) Background Information
Unlike most consumption goods, homeownership currently provides the bundled utilities of consumption and investment. Owning a home provides a basic human need for shelter. At the same time, compared to other goods such as cars, housing tends to appreciate over time, or at least to return the salvage value of the land even when the physical structure deteriorates. The owner's right to alienate the property at fair compensation makes ownership an investment. Modern real estate law and markets primarily have the consumption and investment utilities combined into a bundle of rights; it is separated only in the rental market but rarely in the homeownership market. This united bundle of rights forces households to choose either the purchase of both or neither utilities, thus creates a potential misallocation of the household's wealth. It is generally said that housing is the single largest investment of most households in their lifetimes. However, if given the option, some homeowners may choose to put the money that they use for their housing “investment” into other investment assets, for diversification or for other reasons. It is thus desirable to design better real property financing schemes that allow homeowners to separate their payment for the housing into a consumption-oriented component and an investment-oriented component.
One solution is to use equity participation approaches. Various equity participation approaches have been proposed and used to a limited extent that offer better mortgage terms in exchange for a participation in the equity of the house.
One type of such an instrument is the Shared Appreciation Mortgage (SAM). It provides lower interest rates and monthly mortgage payments in return for a specified share in any appreciation in the mortgaged house. Lenders would not compensate homeowners for any losses on the value of the house over the mortgage duration, beyond their exposure as lien holders. However, SAMs have found only limited usage. Among the difficulties was the so-called “moral hazards” of SAMs if the house value itself is used to measure the appreciation in value, which include the incentives of the homeowner under such a SAM contract to under-invest in the home because the SAM investor will take at least a percentage of the increase in value; and their attempt to have the final valuation lower than it otherwise would be, such as by fraudulent sales transactions and by replacing expensive chandeliers with cheap ones. Other difficulties includes keeping records of capital improvement expenditures and distinguishing these from maintenance expenditures, and also the risk of fraudulent invoices and canceled checks claiming more than was actually paid for any purported improvements. The disincentive to maintain or improve the house reduced the homeowners' enjoyment of their houses as well as reduced the return to investors. Another problem was the need to settle the arrangement at some finite point in time, which caused difficulties if the house was not sold prior to that time in arranging replacement financing that had to include the amount owed if the house value increased; and in paying for and relying on an appraisal of value of the house at the settlement date.
Variations of SAMs include the mortgage plans of Madden (U.S. Pat. Nos. 6,904,414 and 6,345,262, “Madden SAMs” hereafter). For sharing with the lender a fixed percentage of either the house price appreciation or the final appreciated value, a lower mortgage rate (possibly zero percent) is applied. There is potentially no maturity date on the payment on the appreciation portion of the mortgage, while the principal is amortized. The Madden SAMs are based on the amount loaned, and the payoffs represent the payment to the lender/investor. The Madden SAMs compute the appreciation of the house by using the value of the house itself, in particular, the sales price, resulting in a homeowner's lack of incentive to maintain and improve the home and the other moral hazards noted above. The mortgage plans of Madden are contemplated solely as a first-position lien.
Another variation of SAM is the Shared Appreciation Mortgage Loan Method of Jaffee (U.S. Patent Application 2008/0162336, “Jaffee SAM” hereafter). The Jaffee SAM has a zero borrower payment rate, but interest accrues at a fixed or variable rate and is paid upon maturity. The Jaffee SAM also has a fixed maturity, whereupon an appraisal determines the final value of the house, unless the house is sold prior to maturity.
A method for providing home equity financing without interest payments is proposed by Hansford (U.S. Patent Application 2008/0189204, “Hansford method” hereafter). The Hansford method has a zero-coupon lien and a shared appreciation component. The Hansford method anticipates negative house price appreciation, and the amount of principal owed to the investor is reduced, at most to zero, as a participation in the reduced value of the house when sold or the arrangement is settled. However, a major problem of the Hansford method lies in home improvements. When the homeowner wishes to make improvements, he or she must notify the investor, and the investor can offer to invest in the improvements or not. In either case, the investor offers terms for how the expenditures will alter the initial house price, which is the basis for computing the house price appreciation. If the homeowner does not accept the terms offered, he/she either does not make the home improvement or does, with no allowance for this expenditure in the calculation of the amount of appreciation to be shared. This is a very awkward way of dealing with improvements.
A full forwards and options market is discussed by Liu (U.S. Patent Application 2007/0244780). Homeowners can purchase downside protection and/or sell future appreciation in proportions to their liking in an envisioned full derivative market in real estate. Also, houses can be valued not by appraisals or sales prices, but by an index. The Liu index is derived as a price per square foot as determined by inference from the option pricing found in the contracts of about 200 to 300 of the Liu-type contracts, for a given area, such as a Zip code, or larger. The Liu proposal does not involve any liens on the property, nor have finite maturities, such as 3 to 5 years. Upon settlement, cash payments are made, either to or from the homeowner. Liu suggests that if the homeowner owes money to the investor, such as when the house price appreciates and she has sold off this appreciation to the investor, she finances it with a larger mortgage. This creates an incremental continuing mortgage payment.
Oppenheimer attempts to provide a solution to the problem of separating the consumption from the investment in homes (U.S. Pat. No. 5,983,206, “Oppenheimer” hereafter). Oppenheimer enables a prospective homeowner (mortgagor) to become both part borrower and part joint equity venture with the mortgagee. Whenever the prospective home purchaser applies for credit under the terms of the new mortgage, the invention determines the required down-payment and Section A and B principal to finance the purchase under assumptions of current market interest rates and projected increases in house prices.
In Oppenheimer, Section A represents conventional fixed-rate (or adjustable-rate mortgage) loans. The homeowner borrows part of the total principal required to finance the purchase from Section A. The homeowner makes monthly payments only on the Section A principal for the first years before completely paying off the Section A principal obligation.
Section B is issued together with Section A. Section B principal has two parts: debt and joint venture equity partnership (JVP). The debt principal represents the amount of capital contributed to the house financing by Section B (i.e., house price, less down payment and Section A principal). The debt principal remains unpaid until the Section A obligations are terminated, and is then paid off over the last years of the usual 20-year mortgage. The value of Section B's equity share increases over the life of the mortgage because Section A mortgage payments, by reducing the Section A principal, also increases the net equity of both joint venture partners: homeowner and the Section B holder. The Section B holder, as a true JVP, shares in the total value of the house, including any appreciation (or depreciation) in its value, at its equity percentage. In one embodiment, the value of the JVP share is calculated by using the percentage change in a local house price index as a proxy for the change in house value and multiplying the percent JVP share times this amount. If termination occurs within a certain time period from inception, there is an additional cap or limit calculation to assure that the total Section B return on investment does not exceed a stated maximum percent.
In Oppenheimer, the JVP shares in a pre-specified percentage of the entire sales price of the house (or as estimated by an appraisal). Therefore, the JVP needs to include contract provisions to limit the JVP investors to receive a “reasonable” return if there is an early termination of the contract. Another consequence of the sharing arrangement is that principal payments on the mortgage in Oppenheimer increases the homeowners' equity, and thus is shared with JVP investors. The debt is paid off in monthly payments over 10 years, after the mortgage is paid off over 15 years (although the precise number of each of these years can vary). Oppenheimer does not contemplate negative changes in the index. Under Oppenheimer, homeowners have to share the increase in house price for maintenance and improvement expenditures, so they are not as incented as they are without the Oppenheimer mechanism to make these types of expenditures and effort, nor are the moral hazards discussed above dealt with. Moreover, the debt in Oppenheimer is not a zero-coupon debt, because after the payoff of the mortgage, interest is assessed during the period of amortization of the debt. The planned playoff of the debt in Oppenheimer is by monthly payments over a short period of time.